Long known for Twinkies and other sweet, sugar-laden treats, Hostess Brands, Inc. (TWNK) recently bought Voortman Cookies Ltd., adding a range of sugar-free cookies and creme wafers to its product lineup. Experienced mostly in making and marketing indulgent junk food, the company expands outside its regular bailiwick with this foray into healthier snacking. In doing so, it added a hefty chunk of debt to its balance sheet, but may be on track to toothsome profits from its new acquisition regardless.
Twinkie necromancy
Hostess Brands today is a freshly minted company, revived in 2013 from brands salvaged out of the old Hostess Brands' bankruptcy. A private equity firm, Apollo Global Management, allied with billionaire C. Dean Metropoulos, purchased Hostess and several other key brands during the old company's liquidation. The new owners reforged these brands into an enterprise bearing the iconic Hostess name but attempting to follow an energetic new strategy.
On being named President and CEO in 2014, William Toler outlined Hostess' intended growth strategy: appeal to nostalgia with HoHos, Ding Dongs, CupCakes, and, of course, Twinkies, while acquiring new brands to steadily increase the breadth of Hostess' presence in the market. The company purchased Superior Cake Products in 2016, expanding to fresh in-store baked goods. In 2018, it moved into breakfast foods, including Danish pastries, by acquiring Cloverhill and Big Texas.
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Voortman is the latest significant brand snapped up by Hostess's new management. Hostess bought the brand for $320 million in cash from equity firm Swander Pace Capital early in December 2019. Funding was almost evenly split between cash and new debt taken on by Hostess to cover the transaction.
What Voortman offers
Hostess selected Voortman to open up access to a previously untapped market segment, just like each of its earlier major acquisitions. Voortman currently makes three lines of crème wafers, with a fourth in development, and seven lines of sugar-free cookies. Healthier cookies and snacks represent virgin territory for Hostess, which up to this point has successfully bucked the healthy-eating trend with its inventively varied Twinkies and other tasty but less-than-nutritious foods.
According to Hostess, the Voortman purchase offers multiple benefits to its acquirer and should soon have a strongly positive impact on the bottom line:
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The brand has enjoyed approximately 5% sales CAGR (compound annual growth rate) for the past 3 years.
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74% of Voortman's sales already occur in the USA, giving it a significant, established presence in Hostess' home market.
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Hostess' existing infrastructure, distribution, and marketing channels can be used to greatly increase Voortman's American market penetration.
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The company should realize up to $15 million in annual cost synergies within 18 months.
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The deal should boost 2020 adjusted EBITDA by $20 million.
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$40 million to $50 million in annual adjusted EBITDA gains are expected by 2022.
Can Hostess turn sugar-free cookies into stock market value?
While Hostess is taking on around $140 million of debt, temporarily boosting its net leverage to approximately 4.5x, the company guides reduction of this leverage to 4.0x by the end of 2020. Of more interest to Fools investing in food stocks, though, is the question of whether Hostess' share value is currently at its maximum, or whether the new acquisition might help boost its price to a higher level long-term. Some analysts, such as Morningstar Research, expect the stock's fair value to rise to almost $18 per share as a direct result of the acquisition. Others believe it's overvalued.
The company's current share price is approximately $13, while it has a P/E ratio of roughly 26.5. Comparing this to competitors who also make cookies and snacks, Nestle (NSRGY 2.15%) has a 41 P/E ratio, Kellogg Company's (K 1.49%) is around 23, and Mondelez International's (MDLZ 1.40%) P/E ratio stands at approximately 21. While P/E ratios vary considerably between food industry companies, Hostess' appears to be at the lower end of average, suggesting it is not overvalued and may be slightly undervalued even before considering growth caused by the Voortman acquisition.
Voortman's looks like a good deal for Hostess in several significant ways. It has little overlap with Hostess' existing brands, introducing almost no redundancy into the product line. Market research suggests that the overall worldwide cookie market will grow at 5.3% CAGR through 2025. Some reports forecast even faster growth for the reduced sugar and sugar-free market, with a scorching 9% CAGR for this food category through 2025 -- though this includes all reduced sugar foods, not just cookies.
Voortman's 3-year sales growth is in step with predicted cookie market growth, showing that it's well-attuned to its target consumers and is manufacturing a saleable, leading quality product. Hostess is already delivering robust results according to its most recent quarterly report and the Hostess Q3 2019 earnings call, a trend the Voortman acquisition will likely amplify.
There is probably real potential Hostess can leverage Voortman's cookie sales success into higher company value, and has a realistic (though not ironclad) chance to boost its stock value to the forecast $17 to $18 range within the next one to two years.
